What’s Risk Got to Do With It?

Risk is the possibility that something bad will happen. With investing, risk means the possibility of losing some or all of your original investment.

Risk can be scary, for sure, and it can be easy to just choose to avoid it all together. But while investments with low risk may not have far to fall, their stability also means they do not have far to climb. This means you do not have the same potential to make money. Think, buy low — sell high.

So for women who earn less, save less, and live longer than men, it is so important when investing to take advantage of higher returns, meaning, the money you earn on what you have invested. As we have discussed many times in this space, research shows that women can be risk-averse and as such, can suffer in the returns they earn on investments.

So not investing in risky assets can be a risk for women. And while it is impossible to manage away all the risk in any portfolio because markets are too unpredictable, there are approaches that can help mitigate risk.

One way is diversification — the investing form of not putting all of your eggs in one basket. The underlying idea is that if you spread your money around to different kinds of assets, the prices will not all fall at the same time. While some prices will fall, overall and over time your portfolio will gain in value.

So how do you diversify? Here are some basic approaches:

Across Asset Classes

An asset class is a type of investment, like a stock. Different investments behave differently, have different levels of volatility, or change in price, and respond differently to market conditions. Consumers typically diversify across asset classes by investing in stocks, bonds, and cash. Another class of investments is known as “alternative investments,” which are typically more the purview of sophisticated investors, like institutions, as they are more complicated to analyze, and there may be income regulations as to who can legally invest in them. Alternative investments include hedge funds, private equity, real estate, and commodities

Within Asset Classes

Diversification does not just end with asset classes, in fact, additional diversification can happen within a type of asset. Stocks are a great example of how this can be done. Not all companies’ shares behave the same way. Diversification can happen across large and small companies, like older, more established companies and new, high-growth businesses. Investors can also diversify with U.S. and international companies. Diversification can further be achieved across different kinds of companies, also known as sectors, in the stock market. Energy, health care, and telecommunications are all examples of market sectors.

With Human Capital

You can even diversify your investments with your income stream. If you are working at a high-risk start-up with a great potential for gain or loss, you may want to consider investments that are more stable and dependable. Or, if your company offers you a retirement fund with a lot of the company stock, think about diversifying into other investments to ensure your fortune is not tied to the company in both current income, and retirement savings.

No investment is a sure thing, so some risk is typically necessary to make money from investing. Diversifying your assets can be a way to help lower risk, but still earn the return you need to help meet life’s financial challenges.